EIU Global Forecasting Service

Multiple countries withdraw from the euro zone

Very low probability, Very high impact; Risk intensity =

January 24th 2018Introduction

Greece leaving the euro zone in the coming years is already part of our core forecast. The prospect of more countries following it is not, but further departures would be highly damaging to the European and global economy.

Analysis

Greece's problems are largely country-specific, such as the ingrained corruption of its oligarchy, a lack of foreign investment (resulting from closed sectors, protectionism and hostility to foreign ownership) and a resultant lack of competitiveness. As such, Greece's withdrawal would not pose a systemic risk to the bloc, especially as the European Central Bank would intervene to limit the contagion. Nevertheless, this does not mean that there is no prospect of Greece's exit leading to other euro exits. For example, political and economic ructions in Italy threaten to derail the country's fragile economic recovery. Uncertainty over the outcome of the next general election, which is likely to be held in early 2018, and the poor health of the local banking system are compounding popular disaffection. Economic and political malaise is also boosting support for populist parties such as Movimento 5 Stelle, which has called for a referendum on Italy remaining in the euro zone. As institutional constraints would be likely to prevent such a referendum from taking place, the risk of Italy unilaterally leaving the euro zone is very low, but could rise if the government does not adequately manage to tackle the economy's structural problems, which undermine competitiveness and make controlling the public finances difficult. Indeed, the economic difficulties across southern Europe have illustrated the fundamental difficulties posed by a single currency zone without a concurrent fiscal union.

Conclusion

If more countries were to leave the euro zone, the global economy would be destabilised. Countries leaving the zone under duress would suffer large currency devaluations and be unable to service euro-denominated debts. In turn, banks would suffer huge losses on their sovereign bond portfolios, and the global economy could be plunged into recession.